Impact of trade restrictions: KPMG and ICCSL survey

The COVID-19 pandemic brought on a stream of new regulations and policy decisions, put in force to bring stability and order to an unsettled economy. This includes the import restrictions and three-month credit limit on a range of industries imposed by the Sri Lankan Government in order to stabilise the foreign exchange market and provide support to local businesses in these tough times. 

However, to identify and to address the challenges faced by industry, KPMG in Sri Lanka in partnership with the International Chamber of Commerce Sri Lanka prepared a report to be presented to the Government and the private sector, to shed light on the impact the trade related restrictions have had on local businesses. 

This report discusses the impact, analysed via a survey carried out to identify how the businesses in Sri Lanka were affected by these trade restrictions. The questionnaire was shared among the business community in Sri Lanka operating in various sectors. 

Impact on business activity

The survey found that the common problems that arose due to the import restrictions were;

Inability to import the final product 

Ability to import but subject to the lengthy approval process

Payments, clearance and penalties

Based on the survey 90% of the businesses were able to clear their goods and the remaining 10% were unable to clear their imported goods. Of the 90% that were able to clear their goods, 59% of them were subject to import penalties and the remaining 41% were exempt from the penalties. Despite paying the penalties 45% of the businesses still encountered problems when clearing their goods however, 55% managed to avoid any issues.

Retrospective controls

One of the key issues faced by several businesses was the inconsistent nature of the retrospective controls changes made since April 2020. According to the survey, 83% of the businesses were affected by the retrospective controls and the remaining 17% claimed to be unaffected by them. Businesses were also asked how frequently they were subject to these changes, 55% responded that they were affected by the controls “More than three times”. 

Since majority of businesses were affected by the controls, the survey further inquired if bulk of the losses incurred in terms of revenue and/or profit they made was as result of the retrospective changes, 76% of the respondents agreed with the above. 

Further 48% of businesses stated that retrospective changes had implications on their relationships with suppliers, 29% mentioned that the implications they faced was the unwillingness of foreign banks to accept LCs opened by local banks unless they were confirmed by an international bank. 

The remaining 24% faced implications due to other reasons. Based on the survey 42% of businesses were informed of import restrictions via their own company research once they were announced by the Government, 33% were notified by the bank and the remaining 26% found out through other sources.

Stakeholder analysis

The survey further went into understanding how the import controls affected the relationship with different stakeholders and their operations.

Suppliers

The survey analysis reveals that 48% of businesses found their relationship with suppliers being hindered due to requesting a change in terms of payment. 26% of businesses found banks refusing to pay their suppliers due to new regulations as the cause for negative supplier relationships. The remaining 26% were found to have other reasons such as lack of supplier trust due to order cancellations that harmed their relationship with suppliers.

Production processes

Based on the survey 63% of the impact to production processes due to import restrictions. Reasons mentioned signified that in worst case scenario, interruptions in production process had led to business failure. The remaining 37% were found to have problems related to temporary production halts due to the restrictions. However, with time businesses have adopted alternative processes for business continuity.

Employees

The survey found that 38% of businesses found other reasons to have impacted their employees due to the restrictions. The import restrictions did not impact the welfare of the employees other than the indirect effects of reduced or delayed revenue of the business due to import restrictions. 34% of them claimed their employees were mainly affected by salary cuts and the remaining 28% stated layoffs as a reason, each time a lockdown is imposed.

Customers

According to the survey 72% of businesses found it difficult to supply the confirmed orders to their customers and hence it adversely impacted their relationship with customers. These businesses were mostly found to be operating in the banking and finance and other services industries. The remaining 28% had other reasons that impacted their relationship with customers such as failing to make on time deliveries.

Revenue, cost and profitability

As recognised earlier, majority (72%) of businesses found that their revenues, costs and thereby the profits being affected by the import restrictions. Deeper analysis identified that 41% of the businesses faced an increase in their costs due to sourcing locally instead of importing. 

Further, 45% had other reasons impacting their profitability such as dollar depreciation leading to increased cost of production, increased costs due to black market rates and high shipping costs. Furthermore, restricted discounts on credit terms affecting business profitability. The remaining 14% were affected by unavailability of raw materials in order to sell units.

Local banks

Based on the survey 53% fear that there are chances that suppliers will not prefer local banks in the future as the SL banks not honouring the payment with counterparty bank. 41% had other concerns such as buyers arranging discount facilities directly with suppliers thus banks local lending has been affected in terms of interest income. The slowness of banks opening and honouring LCs in a timely manner was a major concern. 

Quantification of loss Revenue

Upon analysing the loss of revenue as a percentage of latest annual revenue it was identified that 41% of businesses made a loss between 25%-50%. 34% of businesses appeared to have incurred a loss of 0-25% and were found to be predominantly from the transportation industry.

Earnings before Interest and Tax (EBIT)

 In terms of EBIT, 31% of businesses reported to have made a loss of more than Rs. 25 million and were businesses primarily operating in the automobile and banking industries and another 31% mainly belonging to the transportation industry mentioned that they made a loss between Rs. 10 million and Rs. 25 million. As a percentage of latest annual EBIT, it can be identified that 41% of firms belonging to the transportation industry incurred a loss of 0-25% and 34% incurred a loss between 25%- 50%.

Based on the analysis it can be further identified that the loss of EBIT is greater than the loss of revenue. In absolute terms, majority of businesses reported to have made a loss in revenue of less than 25 million whereas for the loss made in EBIT most businesses claimed to have made a loss of more than Rs. 25 million. Hence it can be concluded that the cause for the greater loss in EBIT is due to increased costs incurred by the businesses. The contributor to large costs could be as result of the import restrictions imposed.

Significance of import restrictions on businesses

Businesses were surveyed on the level of significance the import restrictions had on their businesses on a scale of 0-10 (0- no effect and 10- highly significant). The analysis revealed that 21% of the businesses picked 8 on the scale which indicates that the impact has proximity to “highly significant”. 

Most of these businesses were found to be operating in the banking and other services industries. However, the next largest majority (13%) picked 3 on the scale which indicates that they were impacted less significantly and were found to be operating mostly in the transportation industry.

Recommendations

Database to show restriction status

The survey respondents were asked if they would recommend the implementation of a system (Ex: Website) which would show them their restriction status with respect to any HS code searched; 79% of the businesses surveyed stated “Highly recommend” whereas only 7% stated “Does not recommend”. This therefore shows the importance of having a system in place to provide firms with their restriction status. 

Further suggestions stated that some classifications of the HS codes on industrial items imported should be reviewed in light of sustainable developments and to be feasible.  In addition, some strongly recommend that HS codes specified by the shipper should be accepted rather than arbitrarily changing them.

Policy consistency

Based on the survey 97% suggest policy consistency over amendments to gazette every week/month. Policy consistency is a vital area to pay attention to as agreed by majority. This is because inconsistent policies lead to high level of business uncertainty affecting planning, control and investor confidence. 

The survey further reveals the importance of all parties (customs, banks etc.) to be aware of latest amendments in order to support business queries and clearance processes, 97% stated that all parties involved must be aware. Further, according to the survey 55% of businesses strongly detest having retrospective regulations going forward. No businesses want retrospective regulations in the future, while 17% have remained neutral about this matter.

The KPMG Sri Lanka team lead by Principal – Deal Advisory and Deputy Head of Markets Shiluka Gunawardena, collaborated with a team led by ICCSL Chairman Dinesh Weerakkody in conducting the survey among various businesses across the island. 

Furthermore, KPMG was responsible in the preparation of the questionnaire and detailed analysis based on the data gathered from this survey and in presenting the most suitable steps to be taken in addressing the problems brought on by the import restrictions in the hopes of alleviating the problems felt by these companies in the most effective way possible. The Employers Federation of Ceylon, The Federation of chambers of Commerce SL and the European Chamber were also partners to the project.